In today's bootstrapping economic climate, organizations across the economic spectrum are looking for ways to stretch a dollar and scrap non-essential expenses.
Homeowners Associations (HOAs), indeed not immune to the current economic stressors, have looked to their boards and advisors to help cull risings costs and save money. Charged with maintaining the common area/elements of a community association, HOA boards are revisiting and renegotiating contracts, comparing costs, and taking a hard look at fees, rates and expenses.
One area where HOA should not be cutting back however, is in contributions to the capital reserve fund. Looking at the short term economic pressures, it may be tempting for a board to cut back contributions, especially amid demands from property owners or if there are no immediate pressing repair or replacement needs. But the long-term results of such a move can end up costing a HOA far more in dollars and frustration.
Reserve laws vary from state to state. For the purposes of this article, we'll not be discussing what an HOA is mandated by law to reserve; rather, the specific ways to implement a robust capital reserve fund and why a sufficient fund is critically important to the health of an association of homeowners.
The purpose of a capital reserve fund for a condo or homeowners association is to fund and plan for the inevitable repair and replacements costs in the common areas of a community. From roofs to sidewalks, from shutters to gardens, repair and replacement is part of any property owner's task list. But what happens when a HOA makes the mistake of underfunding capital reserves? Disrepair, decreased property values, and low morale among property owners are all possible outcomes.
There are some basic steps that a board can follow to avoid potentially catastrophic underfunding.
First, a board can hire a professional engineering firm to perform a capital reserve study. Yes it can be costly, but a professional study will review and analyze an association's common elements, finances, assets etc. The resulting product can be an invaluable tool in setting and assessing fees to protect the HOA in the long-term.
If a board cannot afford or chooses not to do a professional study, an alternative method of ensuring proper funding is to do a full assessment of the common areas every five years. This means a thorough self-audit, detailing the life expectancy and estimated repair and replacement costs of each of the common elements. In lieu of a professional help, there are plenty of online resources that can help guide a board through this process to ensure no important details slip through the cracks.
When done properly, an audit or capital reserve study will collect information on property condition, and project a useful life and repair and replacement costs. When projected out over a 15 or 30 year period (allowing for inflation), a study can provide a board with a roadmap to follow for the funding, replacement, and repair of the association's common areas.
Implement the Rate
Once the study is completed and the reserve rate determined, implement it. This may seem an intuitively obvious step in the process, but too often, boards fail to implement the full rate for fear it may cause discord among homeowners. But as a board is charged with protecting the property and the homeowners' investment, it is a board's ethical duty to enact the proper reserve rate for the security of the homeowners.
Another potential pitfall a precise reserve rate can help avoid is the strain of borrowing or implementing special assessments. A special assessment is a one-time payment that current owners must make to fix a particular problem or to make a repair. Even if voted by the board, special assessments often make for a contentious situation among property owners, who might feel that they are paying for the poor planning of previous boards and property owners. Although all the careful planning in the world can't guarantee there won't be an unforeseen situation that calls for a special assessment, establishing and implementing an appropriate reserve rate can certainly reduce the risks of an unexpected invoice in the property owner's mailbox.
Safeguard the Cash
Once the reserve rate is established and is being collected from homeowners, it is best to maintain a separate bank account for capital reserve expenses. Even if not required by a HOA's master deed and/or bylaws, maintaining separate funds prevents accidental commingling with general operating funds, ensuring that reserve funds aren't spent on operating expenditures. To make funding easier, a board should set up an auto transfer from the operating account to the reserve account so monthly deposits are made in-full and on time.
HOA boards should also consider investing at least a portion of the funds in a short-term CD and/or money market account, as the accumulated cash remains accessible yet can earn interest and add to the fund's bottom line.
Repair and Replace at the Right Time
Another significant piece of the reserve fund puzzle involves the timing of the repairs and replacements. A HOA board should prepare a repair/replacement schedule based on need and funds available. Following the repair schedules is a critical component of a well-managed HOA; putting off repairs and maintenance can relegate curb appeal and turn a routine maintenance expense into a costly replacement fee.
A property that is financially sound tends to be in good repair and offers a higher quality of living, holds its market value, and protects the all-important curb appeal. In a buyer's market with a high inventory of condo and townhomes, it's the reserve fund that protects the homeowners' investment, maintains property values and provides the peace-of-mind knowing that your HOA has a financial safety net in place.
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